A recent decision of the Spanish Central Economic-Administrative Court questions the requirements for a Spanish subsidiary to deduct management fees incurred by its parent company.
The Administrative Court establishes that, in order to allow deductibility of management fees, in addition to the specific requirements laid down by the Corporate Income Tax Act for services rendered between related parties, tax auditors must also verify that: (i) the services have been effectively provided; (ii) a prior written agreement specifying the nature of the services has been provided and reasonable methods to allocate the expenses have been signed; (iii) the services create or mainly create an advantage or benefit for the recipient subsidiary (not for the parent); (iv) it is necessary to account for and charge the expenses to the appropriate year; and, (v) such expenses are directly or indirectly correlated to the subsidiary's sources of income. In addition, it is particularly important to provide evidence of the actual provision of services between the related parties, in order to prevent such payments from merely covering up a redistribution of profits between related parties.
The Central Economic-Administrative Court also rejects the automatic allocation of the parent's expenses among the subsidiaries simply based on the sales of each subsidiary versus the total sales of the group. The key point here is to provide evidence of the advantage or the benefit for the subsidiary. To fulfil this requirement, transfer pricing documentation must include a section demonstrating the economic reality of the services comprising (i) the existence of the services (i.e. that the services have in fact been provided), (ii) the need for such services in the recipient entity (iii) the costs incurred by the services provider when rendering such services and (iv) the correspondence between these services and the benefits obtained by the recipient entity (i.e. that the services provided added economic value to the related entity receiving the services).
In addition, the Central Economic-Administrative Court also established a criterion of rationality in order to allocate expenses between different companies of the group when the service could benefit some of them. A more economic-oriented analysis is therefore required to demonstrate that the expenses have been allocated in a rational manner to the Spanish entity, taking into consideration the real nature of the service. As a presumption, it is expressly stated that this criterion will be fulfilled when the expenses would be allocated in a way which corresponds to the benefits or potential benefits obtained for each company.